1. Foreign exchange market turnover Third, the composition of turnover by counterparty changed substantially.Transactions between reporting dealers and non-reporting financial institutions,such as hedge funds, mutual funds, pension funds and insurance companies, more than doubled between April 2004 and April 2007 and contributed more than half of the increase in aggregate turnover (Table B.3). Factors underlying the strength of this segment include strong investor activity in an environment of trending exchange rates and low levels of financial market volatility, a trend shift among institutional investors with a longer-term investment horizon towards holding more internationally diversified portfolios and a marked increase in the levels of technical trading. Turnover between reporting dealers and non-financial customers also more than doubled. Consequently, the share of turnover resulting from transactions between reporting dealers, ie the interbank market, fell to 43%, despite growth in this segment being slightly lower than in the previous three-year period.
Fourth, the currency composition of turnover has become more diversified over the past three years (Table B.6). The share of the four largest currencies fell, although the US dollar/euro continued to be the most traded currency pair. The most notable increases in share were for the Hong Kong dollar, which has benefited from being associated with the economic expansion of China, and the New Zealand dollar, which has attracted attention from investors as a highyielding currency. More broadly, the share of emerging market currencies in total turnover has increased, to almost 20% in April 2007. Finally, the geographical distribution of foreign exchange trading did not change significantly (Table B.2). Among countries with major financial centres, Singapore, Switzerland and the United Kingdom gained market share, while the shares of Japan and the United States dropped. In some cases, changing shares reflected the relocation of desks.
2. OTC derivatives market turnover
Activity in OTC derivatives markets was vibrant in April 2007. Average daily turnover in OTC foreign exchange and interest rate contracts went up by 73% relative to the previous survey in 2004, to reach $4,198 billion in April 20071 (Table C.1). This corresponds to an annual compound rate of growth of 20%, which is higher than the 14% growth recorded since the derivatives part of triennial survey was started in 1995. Activity in foreign exchange derivatives rose by 78%, slightly above the rate of increase reported for the spot market
(59%). More mod rate growth was recorded in the interest rate segment
where turnover went up by 64%.
3. OTC derivativ s notional amounts outstanding and gross market values
Positions in OTC derivatives grew at an even more rapid pace than turnover. Notional amounts outstanding went up by 135% to $516 trillion at the end of June 2007 (Table C.5). This corresponds to an annualised compound rate of growth of 33%, which is higher than the approximately 25% average annual rate of increase since the current format of the triennial survey was established in 1998. Growth accelerated in all risk categories. The highest rate of increase was reported in the credit segment of the OTC derivatives market, where positions
expanded to $51 trillion, from under $5 trillion in the 2004 survey. Notional amounts outstanding of commodity derivatives rose more than sixfold to $8 trillion, although this may reflect a change in the degree of underreporting as well as a genuine increase in positions. Less extreme, but still high rates of growth were reported for the more traditional types of risk traded on the OTC derivatives market. Open positions in interest rate contracts increased by 119% to $389 trillion, and those in equity contracts by 111% to $11 trillion. Growth in
notional amounts outstanding of OTC foreign exchange derivatives was less brisk at 83%, taking the volume of open positions in such contracts to $58 trillion. Notional amounts outstanding provide useful information on the structure of the OTC derivatives market but should not be interpreted as a measure of the riskiness of these positions. While a single comprehensive measure of risk does not exist, a useful concept is the cost of replacing all open contracts at
the prevailing market prices. This measure, called gross market value, increased at a considerably lower rate (74%) than notional amounts during the reporting period, to $11 trillion at the end of June. Discrepancies between growth in notional amounts and in gross market
values have also been recorded in previous surveys. As a consequence, the ratio of market values to notional amounts fell to 2.2%, from 3.1% in 2001. One reason why the replacement values of derivatives positions increased at a lower rate than face values is that long-term government bond yields in the major currencies, which are the main driver of the market value of interest rate swaps, on balance changed by only very small amounts between mid-2004 and
mid-2007. Since interest rate swaps, similar to most other derivatives contracts other than options, tend to be priced such that their initial value is zero, stable long-term rates are usually associated with low replacement values. Implied volatilities, an important input for the market value of options, also remained stable at a low level between the 2004 and the 2007 surveys. By contrast, stock prices rose sharply in most regions, which is consistent with the fact that
the replacement value of equity contracts increased at a much faster rate (278%) than notional amounts (111%).
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